United States: Cheap oil and an expensive dollar—what a difference a year makes Global Economic Outlook, Q2 2015
Although 2014 ended with a moderate rate of growth, the United States is well positioned for a stronger 2015. However, the economic trends shaping this year will create counterbalancing impacts.
Although 2014 ended with a moderate rate of growth, the United States is well positioned for a stronger 2015, even as the country readies for higher interest rates later in the year. However, the economic trends shaping this year will create counterbalancing impacts, blurring the line between winners and losers.
2014 set the stage for a stronger 2015
With 2.4 percent GDP growth, 2014 was remarkably similar to the prior four years of GDP expansion, in which growth averaged 2.2 percent—a steady, but certainly not stellar, performance. Growth in GDP, so far, has been slower than in the 2002 and 2007 expansions, when growth averaged 2.7 percent, and much slower than the 3.8 percent average growth experienced during the 1992–2000 expansion.
So what will cause 2015 to be different from the earlier years of this expansion? The rate of hiring has finally hit the tipping point, shifting the momentum of the economy in a positive direction.
Hiring accelerated in 2014, making it the first year since 1999 that more than 3 million jobs were created (figure 1). Employment gains in each of the prior three years averaged just over 2 million jobs. The employment gains were broad based, although the big gainers were professional and business services (+704,000), leisure and hospitality (+482,000), construction (+338,000), and health care (+309,000). Other sectors, such as retail (+224,000) and manufacturing (+215,000), also had solid gains.
Hiring accelerated in 2014, making it the first year since 1999 that more than 3 million jobs were created.
With more people working, spending is rising. As shown in figure 2, real personal consumption expenditures steadily gained strength during 2014 and more than accounted for total growth in the fourth quarter. The other strengthening area in 2014 was business investment, which grew 6.3 percent and contributed 0.8 percentage points to GDP growth. This was a faster rate of growth than in 2013, when business investment only grew 3.0 percent, following increases of over 7.0 percent in 2011 and 2012. The renewed willingness to invest was seen in all three categories of business investment: structures, equipment, and intellectual property products (which includes research and development and software investments). This activity signals not only expansion but also the incorporation of the newest technology into the production of goods and services—investments that will drive productivity growth.
The contribution of inventories to real GDP growth was negligible in 2014 (0.1 percentage points). This is similar to their contribution over the last few years, as quarter-to-quarter variations served as temporary adjustments between production and consumption. As outlined in last quarter’s report, there is reason to hope that residential investment will play a stronger role in 2015 than 2014, and no reason to suspect that government spending will be a major contributor in the near term.
The renewed willingness to invest was seen in all three categories of business investment: structures, equipment, and intellectual property products.
That leaves trade as the wild card
While it is customary to combine exports and imports into a “net trade” concept when talking about trade balances, this practice is not appropriate when discussing sources of growth—imports do not offset exports. Each has different drivers and implications for the other components of GDP as well as for the health of the US economy overall.
In 2014, exports contributed 0.4 percentage points to GDP, similar to their contribution in 2012 and 2013. On the low end by historical standards, exports have faced significant headwinds due to the increase in the value of the dollar and the economic struggles of some of the United States’ major trading partners.
The trade-weighted value of the dollar rose 9 percent during 2014, followed by an additional 4 percent increase during the first quarter of 2015. With this rise, businesses that export goods and services are becoming challenged as their prices become less attractive compared with those of foreign competitors. However, as figure 3 shows, the overall value of the dollar has been low during this expansion compared with the prior two expansions. Even with its recent rise, the value of the dollar is below where it was during the period from the late 1990s through the early 2000s. However, export growth was stronger in the prior expansions than it has been in recent years. So while the higher-valued dollar has decreased the competitiveness of US exports somewhat, at the current valuation, slower growth among our trading partners most likely has been the more dominant factor in causing slower export growth over the last three years.
During 2014, imports subtracted 0.6 percentage points from real GDP, a slightly larger proportion than in the prior two years. The higher dollar makes imports less expensive, benefiting consumers and businesses in the form of lower-priced imports. The lower price has driven up real imports—that is, the actual volume of imports has increased. The lower price of oil does not affect the real value of imports (again due to volume); however, increased oil and natural gas production in the United States has had a measurable impact, lessening the amount of oil imported (figure 4).
It must be remembered that imports are subtracted from GDP to prevent double counting—imports are consumed principally as personal consumption or business investment.1 To consider the impact of the higher dollar and lower oil prices, imports need to be discussed in the context of changes in personal consumption and business investment.
As shown in figure 4, among import categories, the faster-growing components have been capital goods, consumer goods, autos, and services. Imports of capital goods, except for automotive, feed into business investment. This equipment is imported to be used in the creation of value-added products that are then used by individuals, other businesses, or the government, or else exported. Consumer goods imports, except for automotive and food, are almost equally divided between durables (57 percent) and nondurables (43 percent). These imports figure into the growing rates of personal consumption. The strong growth in autos and parts reflects the post-recession rebound in domestic demand both from individuals and businesses, as well as the highly integrated nature of the North American car and truck production system. The rise in service imports includes solid growth in Americans traveling abroad and the increased business use of foreign services.
The increases seen in these categories reflect the combined effect of a stronger US economy, which has led to increased demand, and the rising dollar, which makes imports more attractive in fulfilling that demand.
The impact of low oil prices on exports and imports varies with the oil intensity of end-use sectors. The beneficiaries of lower oil prices fall into three main tranches: users of personal transportation, users of business transportation, and manufacturers. The combination of business and personal transportation consumes 71 percent of the petroleum used in the United States, with 25 percent going to industrial uses either as a form of energy production or as a feedstock. The remainder is used directly in heating homes (4 percent) and generating electricity (1 percent).2
On the business transportation side, lower costs can translate into lower prices if transportation costs are a sufficiently large component of production costs. For individuals, lower gas prices free up income to spend on other goods and services. Large industrial users of petroleum, such as chemicals, plastics, iron and steel, and transportation equipment manufacturers, should expect to see a stronger impact on costs. For businesses that support the oil industry and their employees, the outlook is less optimistic—lower prices mean less investment into a sector that, until the price decline started, had been booming.
We started the year with a dollar valued 9 percent higher than at the beginning of the prior year and oil at around 50 percent lower. It remains to see how this twin storm plays out. On the negative side, exporters will be challenged by higher prices. However, the possibilities on the plus side could be substantial. Consumers will have more money in their hands due to lower gas and imported goods prices. Businesses will benefit from cheaper intermediate goods. A stronger dollar makes US trading partners stronger, so they may indeed buy more US-made goods even at a higher relative price. And lastly, oil is denominated in dollars worldwide, so the United States should have the best relative advantage from lower oil prices.
Taken in combination, lower oil prices will provide a welcome offset to slower exports as increasing incomes and investment stemming from the stronger job market contribute to rising personal consumption and business investment—albeit increases that, to some extent, will be filled by imports. This sets the stage for the US Federal Reserve Board to enter the scene later this year with rate increases.